9/9/2010
Ch. 2:
The Financial Environment
&
The Level of Interest Rates
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Financial Markets

Public markets
• Where financial instruments can be
bought and resold
• Stock markets (equity=ownership)
• Debt markets
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Money Markets

Short--term
Short
• < 1 year
• Debt only
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Money--Market Instruments
Money

Treasury bills (“
(“T
T-bills
bills”)
”)

Certificates of deposit (CDs)
CDs)

Commercial paper

Bankers’ acceptances

Money--market mutual funds
Money
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Capital Markets

Medium term & long term
• > 1 year

Medium & LL-T debt

All equity
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Capital--market Instruments
Capital

Notes: 1
1--7 years

Bonds: > 7 years

Equity
• Common stock
• Preferred stock
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9/9/2010
Issuers of Financial Instruments

Stocks: Only companies

Debt:
• Governments


Federal (Treasury bonds)
Municipal (municipal bonds = “munis
“munis”)
”)
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• Corporations (corporate bonds)
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Primary Markets
Direct contact between buyer or
lender and seller or borrower

There is no resale (i.e., secondary)
market.

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Private Markets

Commercial banks

Private placements
• Venture capital companies
• Institutional investors
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Public Markets

The instruments (stocks, bonds,
T-bills, etc) can be resold.
• Stock exchanges [= stock markets]
• Bond exchanges
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Primary Markets

1st time a stock or debt
instrument is sold
• Initial public offering (IPO
IPO)
)
• Secondary, tertiary, etc


Regulated by Securities
Exchange Commission (SEC
SEC)
)
Investment bankers
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Investment Bankers


Very different from commercial
banks (don’t take deposits)
Assist issuer to bring
g new issue
to market
• Paid commissions

Flotation
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“Best
Best--Efforts”
Efforts” Flotation



Investment bank advises issuer
and “floats
“floats”
” the new issue.
However,, the investment bank
does not guarantee the total
value of the sale.
The issuer does not know what
the total proceeds will be.
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Underwriting Flotation


The investment bank (the
underwriter)
underwriter
) guarantees the
amount that the issuer will
receive.
receive
Actually buys the entire issue at
a fixed discounted price.
• Commission
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Underwriter

Takes a lot of risk
• Could lose a lot of money, if they
can’t
can t sell the stocks or bonds at a
higher price than they paid the
issuer
• Or could make a lot of money!
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Well--Known Investment Banks
Well

Goldman Sachs

Morgan Stanley
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Secondary Markets



The market for the resale of
marketable stocks and debt
= Organized exchanges
Also regulated by the SEC
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Major Secondary Markets

Stock exchanges
• NYSE
• NASDAQ

Bond markets

Financial futures & options
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Financial Derivatives Markets

Future and forward contracts

Options and warrants

Index contracts

Swaps
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Market Specialists

Brokers: Bring buyers & sellers
Brokers:
together
• Do not own the shares
• Charge a commission

Dealers:: The “market
Dealers
“market makers”
makers”
• Buy for & sell from own account
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Foreign Secondary Markets

Foreign domestic markets

“Off--shore” markets
“Off
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Financial Environment Summary:
The Players

Commercial bankers

Investment bankers

Dealers [the “market makers”]

Brokers
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Financial Environment Summary:
The Regulators

For banks:
•
•
•
•

Federal Reserve
C
Comptroller
t ll
off the
th Currency
C
FDIC
State regulators
For stock & bond markets:
Securities Exchange Commission
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Financial Environment Summary:
Institutional Investors

Insurance companies

Pension & other retirement funds

Mutual funds
• 401( k)
• Individual retirement accounts (IRAs
IRAs)
)
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